Alternative Investments Management

Kurtosis

Kurtosis is the fourth centralized moment of a probability density function. It is meant to capture the flatness of a distribution. Hence, a small kurtosis implies a distribution that is concentrated around a small range of values of the underlying random variable, while a large kurtosis corresponds to a distribution that is very flat and spread out.

Since the normal distribution has a kurtosis of 3, some analysts prefer to use excess kurtosis, which is defined as kurtosis minus 3 and measures the kurtosis of a particular distribution in excess of that for the normal distribution.

Many option pricing models, such as the Black-Scholes model, assume that asset prices are normally distributed. In practice, this assumption is rarely met and asset prices have distributions with kurtosis higher than the normal distribution, which has important ramifications for option pricing.

Black-Scholes implied volatilities often exhibit a “smile” when plotted against strike price. It has been suggested that one possible explanation for the smile is asset prices that have greater kurtosis than the normal distribution allows.

Large Order Execution Procedures

The large order execution procedure is a rule that was established at the Chicago Mercantile Exchange and was developed especially for the trade of large orders. This rule or procedure allows a member of a contract market to execute simultaneously selling and buying orders of different principals (see CFR).

The execution takes place directly between the principals. For example, an initiating party sets up a large order and a member of the contract market realizes the order in the pit. He then has to find a counterparty to fulfill the order. This is not a simple task because of the order size.

For this reason both parties define a maximum quantity that is traded and an execution price that is intended. After this arrangement the quantity of the initiating party is transferred in the pit for trading.

Bids and offers that are up to the intended execution price are accepted. After trading there might be some unexecuted quantity. This part is traded between the counterparty that was found before trading in the pit and the initiating party.

The intended execution price serves as the basis for this trading. Large order execution procedures are often abbreviated by LOX. These procedures can be found in the most trading systems.

Last Notice Day

The last possible day to give the exchange due notice of intention to deliver the underlying asset of a futures contract is termed last notice day (Hull, 2006). A commodities futures contract is not based on a fixed delivery date but on a delivery period that usually spans the whole contract month.

Hence the day of delivery notice may be chosen by the holder of the short position. The last opportunity to do so, that is, the last notice day, is generally a few days after the last trading day and 1–7 days before the last business day of the delivery month.

The dates vary according to the exchange and the underlying asset. For instance, at the Chicago Board of Trade the last notice day “shall be the business day prior to the last business day of the delivery month.”

It generally takes 2 or 3 days from the issuing of notices of intent to deliver to the delivery itself. Usually, the exchange acts according to the rule of assigning notice of intention to deliver to the party with the oldest outstanding long position.

Investors who are not willing to take delivery should close out their positions before first notice day, as delivery must be met if notice of intention to deliver is given to the exchange.

Last Trading Day

Typically associated with a futures contract, it is the last day a trader can liquidate his/ her position in a contract or take possession of the commodity. For example, if a bread company enters into a futures contract, in wheat with a December expiration date, the contract will expire on the third Friday of December.

At that time, the bread company must either cancel the contract, by taking an offsetting position, or agree to take possession of the quantity of wheat in this contract.

Given that most futures and options contracts expire on the third Friday of the expiration month, these extremely busy days are known as triple-witching days on Wall Street. After this date, trading of this particular contract stops; however, trading in other contracts continues until their expiration date.

Lead Investor

Each round of venture capital funding has a lead investor who negotiates the terms of the deal and usually commits to at least 50% of the round. Round of funding is the stage of financing a company is in. The usual progression is from startup to first round to mezzanine to pre-IPO.

Inside the venture capital syndicate, each investor is assigned with different roles. Typically, in order to achieve the satisfaction of syndication objectives, firms may adopt a series of techniques to realize the cooperation among investors.

According to Wright and Lockett’s (2003) review, shared equity ownership can promote the acquisition of information and enhance the mutual trust levels at the cost of coordination problems while an imbalanced ownership may lead to an efficient decision making.

Although the distribution of equity stakes (shared equity ownership or imbalance in ownership) is remaining as a controversial issue, the lead investor still prefers to occupy a larger stake than nonlead syndicate members.

The reason is the lead investor seeks more compensation due to its responsibility of promoting the coordination in the syndication. The equity stake also can be treated as an indication that distinguishes the contributions involved in venture capital funding for each member.

Lead Manager

This is the institution, typically an investment bank or its venture capital arm, that takes the role of organizing a round of venture capital funding. The lead manager typically finds other lending organizations or investors to create a syndicate, negotiate the terms with the company to be funded, and assess market conditions. In this case, the lead manager is also named syndicate manager, managing underwriter, or lead underwriter.

Typically, lead managers promote the stability of the share price once post-IPO trading starts. With the price manipulation permission from SEC, they might take a series of activities (e.g., post-IPO purchasing of shares) against the aftermarket bearish selling pressure.

Some literature also focuses on the profitability of lead manager’s market making behavior. Since lead managers are at an advantage in collecting information and placing shares, they can beat other investors acting as market maker.

Ellis et al. (2002) document that in Nasdaq because of the profitability of such activities, this making behavior in which the lead manager engages can last for a long time during the post-IPO period. It is opposite toward the situation in terms of the smaller IPOs. In that case, lead manager’s making behavior ends shortly after the IPO.

Lead Underwriter

Underwriters are investment firms that act as intermediaries between companies issuing securities and the purchasers of such securities among the general investing public. Underwriters, in general, oversee the valuation, marketing, and legal aspects of the offering.

Moreover, in a firm commitment (underwritten) offering the underwriter guarantees the sale of a specified number of shares at a designated offer price, thereby guaranteeing the issuing firm a set level of proceeds. As such, the risk of sale is transferred from the issuer to the underwriter.

To reduce the risk borne by a single investment firm, a syndicate of underwriters is typically formed—the size of which is highly correlated to the anticipated level of offering proceeds.

The head of the syndicate is the lead underwriter and is the entity that retains primary responsibility for the legal and administrative aspects of the offering. Syndicate members principally act as an additional layer of intermediaries for distributing the issue to the public.

Since the lead underwriter maintains control and possesses the greatest level of responsibility, its reputation is highly important in determining the acceptance of the issue by the public. For example, the reputation of the lead underwriter represents a certification signal that may be used by potential investors to judge the quality of the issuing firm.